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Macroeconomics Exam 2 Study Guide- Chapters 10, 11, 12 & 15

by: Rooshna Ali

Macroeconomics Exam 2 Study Guide- Chapters 10, 11, 12 & 15 Econ 10233

Marketplace > Texas Christian University > Economcs > Econ 10233 > Macroeconomics Exam 2 Study Guide Chapters 10 11 12 15
Rooshna Ali

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About this Document

This is the study guide for the Exam 2 which covers chapters 10, 11, 12 & 15
Intro Macroeconomics
Steven Ellis
Study Guide
Econ, macroecon, Economics, Macroeconomics
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This 16 page Study Guide was uploaded by Rooshna Ali on Wednesday March 30, 2016. The Study Guide belongs to Econ 10233 at Texas Christian University taught by Steven Ellis in Winter 2016. Since its upload, it has received 51 views. For similar materials see Intro Macroeconomics in Economcs at Texas Christian University.


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Date Created: 03/30/16
TEST 2- CHAPTER 10,11,15,12 Chapter 10- Measuring a Nation’s Income Gross Domestic Product (GDP) • measures total income of everyone in the economy • measures total expenditure (spending) on the economy’s output of goods and services For the economy as a whole, income equals expenditure, because every dollar a buyer spends is a dollar of income for the seller. *GDP MEASURES PRODUCTION, NOT SALES* GDP is the market value of all final goods & services produced within a country in a given period of time Ø Goods are valued at their market prices, so: o All goods are measured in the same units (e.g. dollars in the U.S.) o Things that don’t have a market value are excluded (e.g. housework you do for yourself) Ø Final goods o GDP includes only final goods—these already include price of intermediate goods *Final goods: intended for the end user *Intermediate goods: used as components/ingredients in the production of other goods Ø Goods and services o GDP includes tangible goods (DVDs, mountain bikes, beer, etc.) and tangible services (dry cleaning, concerts, cell phone service) Ø Produced o GDP includes only currently produced goods, not goods produced in the past Ø Within a country o GDP measures the value of production that occurs within a country’s borders whether done by its own citizens or by foreigners located there Ø Given period of time o Usually a year or a quarter (3 months) Gross National Product (GNP) Measures production by citizens only! —Not by border. e.g. U.S. citizen doing something in Paris counts e.g. Illegal Mexican doing something in the U.S. doesn’t count.--- but counts for GDP The components of GDP (Y) v Consumption (C) o Total spending by households on goods and services Note: § For renters, consumption includes rent payments § For homeowners, consumption includes the imputed rental value of the house but not the purchase price or mortgage payments! v Investment (I) o Total spending on goods that will be used in the future to produce more goods o Includes spending on: § Capital equipment (e.g. machines, tools) § Structures (factories, office buildings, HOUSES) § Inventories (goods produced but not yet sold) Note: § “Investment” does not mean the purchase of stocks and bonds v Government Purchase (G) o All spending on goods and services by government at the federal, state and local levels Note: § Excludes transfer payments such as social security or unemployment insurance benefits à they are not purchases of goods and services v Net Exports (NX) NX = exports – imports o Exports represent foreign spending on the economy’s goods and services o Imports are portions of C, I, and G that are spent on goods and services produced abroad Y = C + I + G + NX 70% of GDP comes from consumption! à IT PLAYS THE BIGGEST ROLE Real vs. Nominal GDP Inflation can distort economic variables like GDP, so we have two version of GDP: Nominal GDP • Values output using current prices • NOT corrected for inflation Real GDP • Values output using the prices of a base year • IS corrected for inflation ???????????? = ???? ∗ ???? **First year calculations satisfies the definition of both nominal and real GDP à Not a coincidence o Real GDP per capita is the main indicator of the average person’s standard of living o GDP does not value: • The quality of the environment • Leisure time • Composition: what exactly is being produced • Distribution: GDP per capita is only an average, we don’t know if G/S or income are evenly distributed • Product Quality The GDP Deflator The GDP deflator is a measure of the overall level of prices ▯▯▯▯▯▯▯ ▯▯▯ = 100 ∗ *no units à dimensional number ▯▯▯▯ ▯▯▯ *GDP deflator in the base year is always a 100, not by a chance! Inflation rate is the percent increase in the GDP deflator from one year to the next Chapter 11- Measuring Cost of Living Consumer Price Index (CPI) • Measures the typical consumer’s cost of living • The basis of cost of living adjustments (COLAs) in many contracts and in social security How the CPI is calculated 1) Fix the “basket” The Bureau of Labor Statistics (BLS) surveys consumers to determine what’s in the typical consumer’s “shopping basket” 2) Find the prices The BLS collects data on the prices of all the goods in the basket 3) Compute the basket’s cost Use the prices to compute the total cost of the basket 4) Choose a base year and compute the index = 100 ∗ ▯▯▯▯ ▯▯ ▯▯▯▯▯▯ ▯▯ ▯▯▯▯▯▯▯ ▯▯▯▯ ▯▯▯▯ ▯▯ ▯▯▯▯▯▯ ▯▯ ▯▯▯▯ ▯▯▯▯ 5) Compute the inflation rate The percentage change in the CPI from the preceding year ▯▯▯▯▯▯▯ ▯▯▯▯– ▯▯▯▯▯▯ ▯▯▯▯ = ∗ 100% ▯▯▯▯▯▯▯ ▯▯▯▯ Problems with CPI • Substitution bias o Over time, some prices rise faster than others o Consumers substitute toward goods that become relatively cheaper, migrating the effects of price increases o The CPI misses the substitution because it uses a fixed basket of goods o Thus, the CPI overstates increases in the cost of living • Introduction of new goods o The introduction of new goods increases variety, allows consumers to find products that more closely meet their needs o In effect dollars become more valuable o The CPI misses this effect because it uses a fixed basket of goods o Thus, the CPI overstates increases in the cost of living • Unmeasured quality change o Improvements in the quality of goods in the basket increase the value of each dollar o The BLS tries to account for quality changes but probably misses some, as quality is hard to measure o Thus, the CPI overstates increases in the cost of living Ø Each of these problems causes the CPI to overstate cost of living increase Ø The BLS has made technical adjustments, but the CPI probably still overstates inflation by about 0.5% year Ø This is important because social security payments and many contracts have COLAs tied to CPI Contrasting the CPI and GDP deflator Imported consumer goods ü Included in CPI ü Excluded from GDP deflator Capital goods ü Excluded from CPI ü Included in GDP deflator (if produced domestically) The Basket ü CPI uses a fixed basket ü GDP deflator uses a basked of currently produced goods and services à This matters if different prices are changing by different amounts Correcting variables for Inflation v Comparing Dollar Figures from Different Times ▯▯▯▯▯ ▯▯▯▯▯ ▯▯▯▯▯ ???????????????????????? ???????? ???????????????????? ???? ???????????????????????????? = ???????????????????????????? ???????? ???????????????? ???? ???????????????????????????? ∗ ▯▯▯▯▯ ▯▯▯▯▯ ▯▯ ▯▯▯▯ ▯ **to find dollar value back in time flip CPI ratio** v Indexation o A dollar amount is indexed for inflation if it is automatically corrected for inflation by law or in a contract o For example, the increase in the CPI automatically determines: § The COLA in many multi-year labor contracts § Adjustments in social security payments and federal income tax brackets v Real vs. Nominal Interest Rates o The nominal interest rate: § The interest rate is NOT corrected for inflation § The rate of growth in the dollar value of a deposit or debt o The real interest rate: § IS corrected for inflation § The rate of growth in the purchasing power of a deposit or debt ???????????????? ???????????????????????????????? ???????????????? = ???????????????????????????? ???????????????????????????????? ???????????????? − ???????????????????????????????????? ???????????????? Chapter 15- Unemployment Employed: paid employees, self-employed, and unpaid workers in a family business Unemployed: people not working who have looked for work during previous 4 weeks Not in the labor force: everyone else Labor force- the total number of workers, including the employed and unemployed Unemployment rate (“u-rate”): percent of the labor force that is unemployed # ???????? ???????????????????????????????????????? = 100 ∗ ???????????????????? ???????????????????? The u-rate is not a perfect indicator of joblessness of the health of the labor market: It excludes discouraged workers It does not distinguish between full-time and part-time work, or people working part- time because full time is not available Some people misreport their work status in the BLS survey Labor force participation rate: percent of the adult population that is in the labor force ???????????????????? ???????????????????? = 100 ∗ ???????????????????? ???????????????????????????????????????? The Duration of Unemployment Most spells of unemployment are short: Typically, 1/3 of the unemployed have been unemployed under 5 weeks, 2/3 have been unemployed under 14 weeks Only 20% have been unemployed over 6 months Yet, • The small group of long-term unemployed persons has fairly little turnover, so it accounts for most of the unemployment observed over time. Knowing these facts helps policymakers design better policies to help unemployed Cyclical Unemployment vs. the Natural Rate There’s always some unemployment, though the u-rate fluctuates from year to year. Natural rate of unemployment: the normal rate of unemployment around which the actual unemployment rate fluctuates à not that big of a problem à cyclical unemployment is zero 5.5% = natural rate of unemployment ???????????????????????????? ???????????????? ???????? ???????????????????????????????????????????????? = ???????????????????????????????????????? ???????????????????????????????????????????????? + ???????????????????????????????????????? ???????????????????????????????????????????????? Even when the economy is doing well, there is always some unemployment, including: • Frictional unemployment: occurs when workers spend time searching for jobs that best suit their skills and tastes (talents) à short-term, for most workers • Structural unemployment: occurs when there are fewer jobs than workers à usually longer-term à more serious, but can usually be fixed o Supply (of workers) > demand (of workers) o 3 reasons for this 1. Minimum-Wage Laws § The minimum wage may exceed the equilibrium wage for the least skilled or experienced workers, causing structural unemployment **remember, minimum wage above equilibrium is BINDING** § But this group is a small part of the labor force, so the minimum wage can’t explain most of unemployment 2. Unions § Union: a worker association that bargains with employers over wages, benefits, and working conditions § Unions exert their market power to negotiate higher wages for workers § They typical union worker earns 20% higher wages and gets more benefits than a nonunion worker for the same type of work § When unions raise the wage above equilibrium, quantity of labor demanded falls and unemployment results à Supply > demanded § “Insiders”: workers who remain unemployed, are better off § “Outsiders”: workers who lose their jobs, are worse off o Some outsiders go to non-unionized labor markets, which increases labor supply and reduces wages in those markets 3. Efficiency Wages § The theory of efficiency wages: o Firms voluntarily pay above equilibrium wages to boost worker productivity § Four reasons why firms may pay efficiency wages: 1. Worker Health Higher wages = workers can eat better à more healthier à more productive 2. Worker Turnover Hiring & training is costly. Higher wages = workers stay à reduces turnover (no need to hire and train new employees) 3. Worker quality Higher wages à attracts better applicants à increase quality of firm’s workforce 4. Worker effort Cyclical unemployment: the deviation of unemployment from its natural rate à big problem: means you’ll be unemployed for a long long time Job Search • Workers have different tastes & skills, and jobs have different requirements • Job search: the process of matching workers with appropriate jobs • Sectoral shifts: changes in the composition of demand across industries or region of the country o Such shifts displace some workers, who much search for new jobs appropriate for their skills & tastes • The economy is always changing, so some frictional unemployment is inevitable Public Policy and Job Search • Government employment agencies: o Provide information about job vacancies to speed up the matching of workers to jobs • Public training programs o Aim to equip workers displaced from declining industries with the skills needed in growing industries Unemployment Insurance Unemployment insurance (UI): a government program that partially protects workers’ incomes when they become unemployed à UI increases frictional unemployment This is because of one of the Ten Principles of Economics: People respond to incentives. UI benefits end when a worker takes a job, so workers have less incentive to search or take jobs Benefits of UI: ü Reduces uncertainty over incomes ü Gives the unemployed more time to search, resulting in better job matches and thus higher productivity à benefits out weigh the negatives (increase in frictional unemployment) Chapter 12- Production and Growth Incomes and Growth Around the World Since growth rates vary, the country rankings change over time: • Poor countries are not necessarily doomed to poverty forever, e.g. Singapore incomes where low in 1960 and are quite high now • Rich countries can’t take their status for granted: They may be overtaken by poorer but faster-growing countries Productivity A country’s standard of living depends on its ability to produce g&s This ability depends on productivity: the average quantity of g&s produced per unit of labor unit Y = real GDP = quantity of output produced L = quantity of labor ▯ So ???????????????????????????????????????????? = = (???????????????????????? ???????????? ????????????????????????) ▯ Why is productivity so important? v When a nation’s workers are very productive, real GDP is large & incomes are high v When productivity grows rapidly, so do living standards Physical Capital Per Worker K = [physical] capital = the stock of equipment and structures used to produce g&s ???? ???? = ???????????????????????????? ???????????? ???????????????????????? Productivity is higher when the average worker has more capital (machines, equipment, etc.) à an increase in K/L (capital per worker) causes an increase in Y/L (productivity) Human Capital Per Worker H = human capital = the knowledge & skills workers acquire through education, training & experience ???? = ????ℎ???? ???????????????????????????? ???????????????????????? ???? ℎ???????????????? ???????????????????????????? (????????????????????????????????????) ???? Productivity is higher when the average worker has more human capital (education, skills, etc.) à an increase in H/L (human capital per worker) causes an increase in Y/L (productivity) Natural Resources Per Worker N = natural resources = the inputs into production that nature provides, e.g. land mineral deposits ???? ???? = ???????????????????????????? ???????????????????????????????? ???????????? ???????????????????????? Productivity is higher when the average worker has more natural resources à an increase in N/l causes an increase in Y/L Some countries are rich because they have abundant natural resources (e.g. Saudi Arabia has lots of oil) But countries don’t need N to be rich (e.g. Japan imports the N it needs) Technological Knowledge Technological knowledge: society’s understanding of the best ways to produce g&s Technological progress does not only mean a faster computer, a higher-definition TV, or a smaller cellphone It means any advance in knowledge that boosts productivity (allows society to get more output from its resources) Tech. Knowledge vs. Human Capital Technological knowledge refers to society’s understanding of how to produce g&s Human capital results from the effort people expend to acquire this knowledge Production Function The production function is a graph of equation outputs & inputs: ???? = ????????(????,????,????,????) F( ) is a function that shows how inputs are combined to produce outbut “A” is the level of technology à “A” multiplies the function F( ) so improvements in technology (increases in “A”) allow more output “y” to be produced from any given combo of inputs The production function has the property constant returns to scale: Changing all inputs by the same percent causes output to change by that percent For example, doubling all inputs (multiplying each by 2) causes output to double: 2???? = ????????(2????,2????,2????,2????) *note: increasing by 10% means multiplying each by 1.1 This equation shows that productivity (output per worker) depends on: o Level of technology o Physical capital per worker (K) o Human capital per worker (H) o Natural resource per worker (N) How to Increase Productivity By increasing K, which requires investment Producing more capital requires producing fewer consumption Reducing consumption = increasing saving Hence a tradeoff between current and future consumption


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